States brace for debt ceiling default

NEW YORK (CNNMoney) -- Just the threat of a federal default is prompting California to get a $5 billion loan to make sure it can pay its obligations.

States around the nation are drawing up contingency plans in the event that federal policymakers don't resolve the debt ceiling impasse by Aug. 2. They are preparing for chaos in the municipal debt markets and delays in federal payments for Medicaid, education and other services, which could happen if the federal government defaults on its obligations.

California, for instance, planned to sell $5 billion in revenue-anticipation notes in the bond market in late August. Now, Treasurer Bill Lockyer plans to get a bridge loan so the state can have cash on hand in case the markets are in turmoil and the state is unable to borrow. It would repay the bridge loan once it sells the notes.

Also, Golden State officials are concerned about delayed federal payments for Medicaid, education, transportation and other services.

"If the federal government starts prioritizing payments, the states could get short-shrift," said Tom Dresslar, the treasurer's spokesman.

The federal government sent $478 billion to their state and local counterparts last year, according to a report issued Wednesday by the Pew Center on the States. Next month, states are expecting to get $10.4 billion in college tuition assistance alone.

But that money might not come if the debt ceiling is not raised.

Most states could handle a delay in federal funding for a few days, said Scott Pattison, executive director of the National Association of State Budget Officers. But more than that could spell trouble.

"We can deal with it for a very, very short period of time," said Pattison, noting that states have contingency plans in place. "But if things go on longer, then that's a problem."

States could also find themselves squeezed in the bond markets, said Kil Huh, the Pew Center's research director. They could find it more expensive to issue debt, and some lower-rated states could be shut out.

And if a federal government default results in lasting economic damage, it could hurt the states' nascent revenue recovery. If people lose their jobs or the stock market drops, states could see tax revenues decline again.